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And your Grade is ... Junk!

And your Grade is … Junk!

The last few weeks have been filled with more market turmoil than we have seen in a decade and it all started with a midnight meeting. The impact for all of us unfortunately will be long lasting and not the easiest to explain or even foretell. But here goes with my version of what Junk status means…

A countries credit rating is the same as our own personal credit rating that we have with the bank. When you apply for a mortgage from the bank they check your credit rating which consists of your salary, education level, ability to pay your debit orders, etc. The credit rating you receive guides the bank with the interest rate you will receive on your loan. The lower your credit rating the higher your interest rate and vice versa. Exactly the same thing happens with countries. When they need to borrow money from other countries, foreign companies or the world bank they are given a credit rating which states how likely they are to pay back the money and what interest they will be charged on the loans they receive. Each rating agency uses their own set of criteria to value the type of risk each country holds. The main aspect of this is whether a country has economic growth or not and what government policies have been put in place to help the country grow or prevent it from growing.

The world has 3 different companies who provide credit ratings for countries, companies, government institutions and a range of other entities; they are Moody’s, Standard & Poor’s and Fitch. Not all of them rate all companies and institutions, but they do all rate countries. An investment grade rating is having a credit rating of BBB- or above. All countries aim to have an investment grade rating which helps countries to borrow money at the best interest rates. Most pension funds who invest on behalf of their retirees require a country or company to have at least 2 rating agencies rate them as investment grade, this is why the 2nd junk status rating by Standard & Poor’s had such an effect on SA.

So at this stage where are we… Fitch have rated our ability to pay back our foreign and our local debt as junk, that is BB+, but have given us a stable outlook which means they will not review this decision for a while and do not feel anything will change. Standard & Poor’s have given our ability to repay foreign debt as junk, but our ability to repay local debt still has an investment grade rating, however they have kept us with a negative outlook, which means they will review this decision again in a few months which means we could still have our local debt changed to junk. Moody’s are currently reviewing our rating, but many expect they will downgrade us too.

So what does this mean for us, the first impact is that most foreign pension funds who have been investing in South Africa have to withdraw their funds. The sad side is that South Africa has had one of the best bond markets in the world and has helped many pension funds to earn the returns needed for their clients. Our stock market is also one of the most regulated in the world and is why so many foreign companies invest in it. However, due to the ratings change, this money has to be withdrawn. This means money is leaving South Africa which could have helped companies and our economy grow.

The next impact is that the debt we currently have as a country has become more expensive and we have to pay more. The only place the government can get this money is from us the people by raising taxes and to reduce the costs it has in the government. Unfortunately, increased taxes tend to lead to reduced economic growth and higher inflation. As our inflation increases so do our interest rates as the Reserve Bank has been mandated (told) by the government to try and prevent inflation and the only option they have is to increase interest rates. So the cycle unfortunately continues.

Can we change what has happened? the short answer is yes; we can become investment grade again. It will take a lot of hard work and focus by our government by implementing proper policies which allow our companies to feel secure and encourage them to invest in the future. If we can improve growth and get our country back on the right path we can achieve investment grade again. The problem is this will take time and focus, it is not easy but we have done it before when our democracy was born. We are a resilient nation, who are determined and have achieved much, let’s hope we can again.